Taxation of Online Travel Services

May 17, 2012

In traditional hotel transactions, travelers book a room and pay a hotel tax based on the amount they pay to the hotel. Online travel companies, however, have altered this traditional process by facilitating transactions between consumers and hotels and keeping part of what the consumer pays as a service fee, says Joseph Henchman, vice president of legal & state projects at the Tax Foundation.

This has become a concern for state governments, which have long enjoyed surtaxes on travel services such as hotels. The loss of revenue associated with the market intrusion of online travel companies has prompted numerous lawsuits as these states attempt to recover lost revenue. However, most of these legal actions have yielded little reward.

Local officials in 25 states and the District of Columbia have sought to reinterpret hotel occupancy tax ordinances to apply to amounts paid by consumers to online travel booking services.

Online travel companies have prevailed in cases in 18 states, while governments have prevailed in cases in 3 states and the District of Columbia (cases are still pending in the last 5 states).

In their own defense, the companies have argued that they neither operate hotels nor resell hotel rooms as wholesalers, placing them outside the proper scope of hotel occupancy taxes.

Boiled down, the question is whether hotel occupancy taxes should be calculated based either:

On the amount the hotel receives, which would consequently remove the companies from tax liability, or

On the amount the consumer pays, which would make the companies responsible for paying the tax.

As stated above, the prior interpretation has been prevalent among the courts. The failure to obtain recompense in these lawsuits discourages states from taking further legal action. However, as online travel companies now constitute between 5 and 25 percent of hotel bookings, it is unlikely that the issue will remain unresolved in the long run.